Softer Q3 pharma earnings expected as pricing, legal pressures mount

As pressures mount for the pharmaceutical industry, analysts are expecting more modest earnings from the largest drugmakers in the third quarter, particularly from those in the U.S.

These pressures — legislative drug pricing pile-ons, litigation that costs millions of dollars to settle, and increasing antitrust scrutiny among them — may drag on revenues and EPS. Analysts foresee a drop from both the third quarter of 2018 and the previous quarter this year for most of the top companies, according to data compiled by S&P Global Market Intelligence.

Among top U.S. companies, only AbbVie Inc. is expected to see EPS rise from the previous quarter. Rounding out the top 20 companies by market capitalization around the world, Europe's AstraZeneca PLC, Sanofi and GlaxoSmithKline PLC are the only others with expected earnings bumps quarter to quarter. Earnings reports start with Johnson & Johnson on Oct. 15.

Drug pricing issue escalates

With the 2020 elections looming, a focus on drug pricing has put the pharmaceutical industry's practices under a microscope, with several lawmakers composing plans to cut costs for patients.

An October analysis from U.S. drug pricing watchdog the Institute for Clinical and Economic Review showed that many of the top-selling medicines with the largest price increases in 2017 and 2018 had not demonstrated substantial new clinical benefit to justify the price hike during that time. These include products from AbbVie, Roche Holding AG, Pfizer Inc., Gilead Sciences Inc., Amgen Inc., Eli Lilly and Co. and Biogen Inc.

Congressional lawmakers and the Trump administration have taken notice and made pricing a central issue going into the elections, but they have not come to an agreement on how to address it. Further complicating matters, a White House report concluded that drug prices in the U.S. had in fact dropped by 0.7%, although the report was slammed by critics as flawed for excluding some products.

So while drug pricing is likely to remain a central issue, the disagreement among lawmakers about how best to approach the problem could give companies time to hone their message and take some action.

Opioid litigation casts a shadow

Litigation against top drugmakers, particularly surrounding the ongoing opioid crisis, will probably keep taking a toll on companies like J&J, Allergan PLC, Mylan NV, Teva Pharmaceutical Industries Ltd. and Mallinckrodt PLC, among others, after it led OxyContin-maker Purdue Pharma LP to file for bankruptcy in the third quarter.

The capacity to absorb any settlement costs that might result from the opioid cases varies by drugmaker, however, according to a September report from S&P Global Ratings. J&J has an estimated $20 billion to $30 billion at its disposal for potential fines or settlements. Allergan has about $7 billion to $10 billion, Mylan holds approximately $3 billion and Teva has about $2 billion at its disposal.

"In light of the recent developments relating to opioid litigation, we now believe there is a plausible risk of settlements or judgements against certain drug manufacturer companies, relating to opioids, materially exceeding a billion dollars," S&P Global Ratings said in its report. "These developments include the $572 million judgement against Johnson & Johnson in Oklahoma, a variety of settlements by drug manufacturers, the $646 million of legal reserves recorded by Teva Pharmaceutical Industries on its balance sheet, and the bankruptcy filing of Purdue Pharma (not rated) as part of a settlement valued at approximately $10 billion."

For J&J, opioids are not the only legal risk as two others have resulted in substantial fines including $8 billion tied to its antipsychotic drug Risperdal and various fines and settlements associated with allegations that its talc baby powder products contained cancer-causing asbestos.

M&A scrutiny on the rise

With some of the biggest acquisitions ever in the healthcare industry announced this year, the U.S. Federal Trade Commission has been closely examining the deals, delaying closure to enforce antitrust laws.

Bristol-Myers Squibb Co.'s $95 billion acquisition of Celgene Corp., for instance, hit a hurdle when the companies were forced to sell rheumatoid arthritis drug Otezla to Amgen because of antitrust concerns from the FTC.

And another of 2019's largest deals — AbbVie's $84.2 billion acquisition of Allergan — has undergone a wave of scrutiny from the FTC that analyst and investor Brad Loncar has said is more intense than usual from the regulator. The companies have faced extensions to the FTC's approval of the acquisition, but the reasons have yet to be disclosed.

M&A activity slowed in the third quarter both in terms of deal volume and transaction value, a trend that reflects Loncar's assessment that drugmakers might hold off until the FTC scrutiny becomes more predictable.